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A conversation with Anne Kruger: Rent-seeking and other topics

by xyonent
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Anne Kruger has had an impressive resume, having served as Chief Economist of the World Bank from 1982 to 1986 (where she is widely credited with significantly improving the quality of published research) and as First Deputy Managing Director of the IMF from 2001 to 2007. She spoke with Shruti Rajagopalan for about an hour about a wide range of global economic topics. “Anne Kruger looks back on 50 years of concession, trade and economic development” (Mercatus Original Podcast, June 20, 2024).

I can’t give the whole story here, but in 1974 Krueger published a famous paper entitled ” “The Political Economy of Rent-Seeking” (American Economic Review(June 1974). In the late 1960s and early 1970s, when this paper was conceived, Kruger was a professor at the University of Minnesota. But in the summers, often as part of U.S. aid projects, she found time to travel to countries like Turkey, Korea, and India. She spoke to actual businesspeople along the supply chain; for example, in one study, she spoke to Hindustan Motors in India and 50-60 of its suppliers. This process of gathering background information is very different from the research most economists do today. For example, she found that “each of these parts businesses has three books of accounts: one for the tax office, one for the public, and one for understanding what’s really going on.”

A key conclusion of the 1974 paper was that corruption was not simply a collection of transfers of funds and bribes between groups. Rather, “competitive interest pursuit” meant that companies expended significant resources to find ways to get around government prohibitions, permits, and regulations. As a result, the costs of these regulations turned out to be much higher than previously thought. As Krueger put it:

It’s surprising at first, but then you realize that these people are smuggling parts or importing them at fake prices or what have you, and you realize that’s it. But after a while, when it’s so much, you realize that this isn’t just a matter of me taking money out of your pocket, you’re making a living off of it instead of doing something actually productive. That’s the fundamental problem, and I think everyone knew about it, but just didn’t realize it was there.

I remember I studied corruption for a day or two in grad school. I think we were taught that even if there was corruption, it’s not a big deal because it’s just a transfer from person to person. I think that’s true if it’s one or two small isolated incidents. Once everyone realizes that they can get more if they do this, if they do that, then everyone competes for it. By that time, they’ve spent time and resources on it. By that time, the costs are higher.

A common justification for rules, regulations and import blocks is that they are a necessary trade-off to give domestic industries room to grow and develop. But Kruger argued that business people don’t actually believe this justification; they just want less competition. Here is an excerpt from the interview:

Rajagopalan: Even before 1965, the prevailing view in the 50s and 60s was that free trade was really for the developed world, the post-war Western world, and that developing countries were doing the right thing by using measures like protectionism, infant industry protection, import substitution, import licensing, etc. You probably know that list better than I do. Have you ever subscribed to that orthodoxy, or have you always been skeptical? If so, what made you change your mind?

Kruger: I don’t know, because I invested in it myself. I remember in grad school somebody saying, “Sure, you might have an industry that has high start-up costs, but once you get it up and running, you can recoup your investment, and then you can remove protection and produce for the world market.” What I understood about India and Turkey is that they didn’t do anything like that. Not only did they have protected industries that weren’t thriving, they were seeking more protection, and they weren’t thinking about the international market at all. They knew they couldn’t compete. There was dissonance in that sense. At least as far as I was aware, I don’t believe the consensus was strong enough to support things like import substitution, as you say.

Kruger tells a fascinating story about her attempts to make the case for free trade and macroeconomic stability in India at that time and how her arguments were received.

One time, when I came back to India, the Secretary of an important Ministry of Economic Affairs said to me, “You’ve been selling this for years and you’ve never heard a rebuttal. Come to our ministry on a Saturday morning and talk to us. We’ll invite other Secretaries and others and we’ll discuss it.”

I went there on Saturday morning and we had our discussion. By that time, my presentation was a little smoother than before. Also, I knew enough about India to be able to apply it to India. It was fine in India. By the time I was done, I was pretty satisfied. The first question was from my host. The first question was, “Now, madam, you know India is a poor country. You also know there are two types of goods: luxuries and necessities. It is a criminal act for a poor country to produce luxuries. So how can we export necessities?” From that level, the discussion did not change much.

In short, strict government control of the economy (“it is a crime to produce luxury goods”) and zero exports (“how can we export necessities?”) were the answer. India did not begin a more rapid pattern of growth until that mindset changed.

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